Operational Risk Emerging As Major Point Of Examiner Emphasis

In the most recent issue of the “NCUA Report” the agency outlines the areas of major examiner emphasis this year. Number three on the list is operational risk, which is generally defined as how well a credit union can manage operational risk and maintain a system of internal controls — a somewhat euphemistic way of asking is your credit union staff competent enough to be doing what it is doing. Why is this so important? Because it underscores the double whammy that credit unions are facing. On the one hand, the financial industry is getting more complicated. Technology enables products to be introduced more quickly and consumers to demand more services from their institutions. On the other hand, we all know about the increasing regulatory burden, the most challenging interest rate environment in years, and the continued costs associated with the failures of institutions during the Great Recession.

The dangers are, of course, not unique to credit unions and, in some sense, operational risk is always an overriding concern of examiners. But, in a thoughtful speech in May, OCC Comptroller Thomas Curry explained that the overriding emphasis on operational risk is an extraordinary development within the financial industry, pointing out that this is the first time in at least 30 years that operational risk has eclipsed credit risk as a safety and soundness concern.

The problem for credit unions and the challenge for NCUA is how to translate this emphasis into examinations without allowing examiners to effectively supervise the institutions they oversee. For instance, credit unions are justifiably annoyed when examiners point to safety and soundness concerns rather than a specific regulation as the basis for an examiner finding. Conversely, safety and soundness has to be a concern of examiners. After all, some credit unions have greater expertise than others so a perfectly acceptable loan product for one might pose an operational risk for another.

So what is a credit union to do? I love Comptroller Curry’s advice, although I know it is easier said than done: “all institutions, regardless of size, must resist the temptation to under-invest in the systems and controls they need to prevent greater risk and larger losses in the future.”